Preferreds Remain Unique Income Generators in Low-Yield Climate

One of the primary lessons income investors are learning this year is that there are times when traditional income-generating assets don’t deliver as expected. In other words, it’s a great time to consider other avenues for yield, including preferred stocks and the Principal Spectrum Preferred Securities Active ETF (CBOE: PREF).

Preferred stocks are a type of hybrid security that shows bond- and equity-like characteristics. The shares are issued by financial institutions, utilities, and telecom companies, among others. Within the securities hierarchy, preferreds are senior to common stocks but junior to corporate bonds. Additionally, preferred stocks issue dividends on a regular basis, but investors don’t usually enjoy capital appreciation on par with common shares.

PREF is increasingly relevant today because conservative fixed income investments, including Treasuries and municipal bonds, sport yields at or near historic lows.

“Historically, investors would turn to bonds to generate income, preserve wealth and act as a ballast to the portfolio when the stock market sells off,” said Travis Moore, vice president and portfolio manager at Whittier Trust. “The big question today is, given the current interest rate environment, can bonds still fulfill these three roles?”

Preferreds Preferred For A Reason

Income investors have looked to preferred stock ETFs in their portfolios for a number of reasons. For instance, the asset class offers stable dividends, does not come with taxes on qualified dividends for those that fall into the 15% tax bracket or lower, is senior to common stocks in the event liquidation occurs, is less volatile than bonds and provides dividend payments before common shareholders.

“Based on their performance throughout the financial crisis and their current balance sheet strength, we believe there is relatively little risk of banks interrupting payments of their preferred,” said Moore.

That’s an important point because financial services firms are usually among the largest issuers of preferred stock and that underscores an important point regarding PREF. The Principal ETF is actively managed, so it can avoid possible dividend offenders in the preferred space. Second, the outlook for preferred dividends is more positive than negative.

With preferred dividends, broadly speaking, looking safe and the higher yields offered by the asset, PREF can act not only as a income-generating tool, but a long-term inflation fighter as well.

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The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.